Starbucks' $90 Billion Bet

Starbucks (NASDAQ: SBUX) opened its first street-front Teavana store on Thursday in New York. The new store is a departure from Teavana's typical mall store in that it emphasizes its menu over its merchandise. With intentions of opening over a thousand similar locations in the U.S. and abroad in the next five years, can Starbucks, as CEO Howard Schultz put it, do for tea what it's done for coffee?

Coffee vs teaWorldwide, tea is much more popular than coffee; it's the second most popular drink after water. It's a $90 billion market, and Starbucks is just getting its feet wet. Comparatively, the coffee market is only about half that size.

But coffee culture is much different from tea culture. Coffee is fast; tea is slow.

That's why Schultz has said he expects higher ticket prices with less volume at Teavana tea bars compared to Starbucks locations. Additionally, tea drinks ought to have higher gross margins than coffee.

The last few years have seen significant growth in Americans' interest for tea. According to Tea Association USA, interest has grown 16% in the last five years. Specialty tea has been the fastest-growing segment of the tea industry the U.S., and there are now over 4,000 specialty tea rooms across the country.

Still, Teavana's biggest opportunity is abroad in Asia and Western Europe, where tea is often the first drink of choice. Starbucks has been making inroads into India, but may have better success with Teavana in the world's largest tea consuming nation. Starbucks only generates 7% of its revenue from its Europe, Middle East, and Africa division. Tea is more popular than coffee in those regions.

Another opportunityStarbucks has leveraged its brand into a great consumer packaged goods business. The CPG business accounted for 8% of total revenue last year.

Starbucks has an opportunity to get Teavana teas into grocery stores like Whole Foods Market (NASDAQ: WFM) . Whole Foods has a popular bulk foods section, where shoppers are able to shovel custom amounts of nuts and grains into take-home bags. A partnership with Whole Foods may lead to a successful loose tea section in that aisle.

Whole Foods wouldn't be the worst wagon for Starbucks to hitch Teavana to. The company has a ton of growth ahead of it. It currently operates just 365 stores, mostly in the U.S., with plans of opening 1,000 stores. Additionally, it caters to the same health-conscious and affluent customers as Teavana. As Whole Foods expands, Starbucks may be able to get a better look at which markets have the most potential for tea bars.

Additionally, Starbucks plans to leverage the Teavana brand into another line of K-Cups. Starbucks recently signed a five-year extension of its deal with Green Mountain Coffee Roasters (NASDAQ: GMCR) , which included plans to launch Teavana branded K-Cups.

Green Mountain has been increasing its efforts to capture part of the tea market. In March, the company made a deal with Unilever to bring its Lipton teas to its single-cup brewers. It currently offers 29 varieties of tea K-Cups.

The company's Vue system is perfect for Teavana's delicate teas as it allows for precise temperature control. Moreover, K-Cups, especially Starbucks', command premium pricing, which is necessary for Teavana's premium product.

Transformative companyIf there's anything I've learned about Howard Schultz and Starbucks, it's that he and his company are great at convincing the average consumer to buy a premium product. People used to get their coffee from diners. Now they go to a coffee house. Currently, most people get their tea in bags. I wouldn't be surprised if in the next 10 to 15 years, most people go to a tea bar, and buy more loose tea.

This might take time, but I think in the long-run Teavana is at the forefront of a great opportunity.

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Adam Levy owns shares of Starbucks and Whole Foods Market. The Motley Fool recommends Green Mountain Coffee Roasters, Starbucks, and Whole Foods Market. The Motley Fool owns shares of Starbucks and Whole Foods Market. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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